Mexico Finance Minister Carlos Urzúa: Safe Choice

Full Confidence

Americas March 27, 2019

Mexican Finance minister Carlos Urzúa is not impressed, or indeed intimidated, by the recent surprise change in the outlook of the country’s sovereign credit rating from stable to negative: “This does not constitute a downgrade. The move should therefore be taken with a pinch of salt.”

The adjustment is related to the $107 billion debt load sustained by state oil company Petróleos Mexicanos (Pemex) of which at least $16 billion needs to be refinanced (rolled over) before the end of the year. “This is probably the root cause of the change in the short-term outlook as investors perceive a slight increase in risk as the operation unfolds,” says Mr Urzúa.

Investors are not fully satisfied with Pemex’ business plans and question the wisdom of spending big money on the further development of the Dos Bocas oil terminal, one of the country’s largest such facilities, and the adjacent refinery instead of expanding exploration and production activities which would quickly ease cashflow problems. Pemex has earmarked some $2.8 billion for the upgrading of its facilities at Dos Bocas.

Over the next few months, the company needs to refinance up to $7 billion in maturing debt paper. Minister Urzúa hopes to raise this money on the capital market but doesn’t discard stepping in should Pemex prove unable to secure decent terms. Late March, he suggested the government may decide to use part of the $15 billion federal budget stability fund to provide Pemex with liquidity in a one-time-only cash injection.

Spot of Trouble

The government stands ready to back up Pemex to avoid a downgrading of the company’s debt to junk status – a move that would reverberate throughout the economy. The state has already injected close to $4 billion into the troubled company and provided some tax relief. The past few years, Pemex regularly had to issue debt to meet its tax obligations. The company is in a spot of trouble: not only is it burdened by an outsized debt, Pemex also carries some $70 billion in unfunded pension liabilities.

Since taking office in December, the Obrador Administration has clamped down on corruption and theft – two of Pemex’ major ailments. According to Mr Urzúa, the theft of gasoline from Pemex-run storage facilities and petrol stations has been reduced from an estimated 125,000 barrels per day (bpd) to barely 8,000 bpd, resulting in monthly savings of around $180 million.

To source state funding for Pemex, Minister Urzúa can tap into the budget stability fund which he in any case would much like to liquidate because of its ‘poor design’. But before he can rescue Pemex, Mr Urzúa must fight off the advances of Manuel Bartlett, the new CEO of the politically powerful Federal Energy Commission. Mr Bartlett, a former senator, is a most interesting chap who deserted the long-ruling Institutional Revolutionary Party in 2006 sensing that its iron-grip on the state would likely never be re-established.

An old-style powerbroker, Mr Bartlett is quite unconcerned about carbon footprints and wants to bet on coal and heavy diesel to fuel the country’s electricity generators. He refuses to contemplate fracking, or the use of dirt-cheap natural gas imported from the United States and transported through the seventeen pipelines crossing the border, considering this recently built infrastructure a ‘monument to corruption’. Mr Bartlett’s coal- and diesel-powered plants also require a big chunk of cash out of the federal budget stability fund.

Antagonist

Minister Urzúa is no fan of Mr Bartlett’s plans but has so far been unable to block his antagonist. A recent study commissioned by the Finance ministry found that cheap energy provided by natural gas could easily supercharge the economic growth rate to four percent or more annually. However, Mr Bartlett has repeatedly indicated that he sees the use of ‘gringo gas’ as a betrayal to the country’s best long-term interests.

Working on an ambitious National Development Plan (PND) that aims to transform Mexican society by, essentially, re-founding the republic and, with it, the state and societal structures that define the nation, Minister Urzúa’s first job is to ensure judicial independence and an unwavering commitment to the rule of law. Although the PND 2019-2024 contains a great many vectors, Mr Urzúa considers improvements to the country’s dispute settlement and contract enforcement systems and protocols crucial to building a strong base upon which all other development initiatives rest.

Returning to the fate and future of Pemex, Mr Urzúa admits the company’s key role in any development scenario under consideration. Though Pemex’ output of crude oil has declined for fourteen consecutive years as aging fields are depleted and exploration efforts were minimised, the Obrador Administration seems determined to double down on the company. President Obrador has been vociferous in his opposition to the 2013 reforms that allowed private oil companies to operate their own fields for the first time since 1938 when the sector was nationalised.

Steering the President

Mr Urzúa is now trying to steer the president away from any thoughts that involve turning back the clock. He also wants President Obrador to allow for the resumption of oil auctions and provide a clear indication that the tenders scheduled for October will indeed take place. These are to pick joint venture partners for Pemex in the development of onshore fields, using private capital.

Widely-respected as a traditionalist in academic circles, Mr Urzúa represented – and in a way still represents – a largely unknown quantity to the global investment community. Upon taking office, he quickly reassured the markets that the incoming administration would adhere to fiscal discipline and respect the central bank’s autonomy in setting interest rates and managing the country’s floating currency. As municipal finance secretary of Mexico City between 2000 and 2003, Mr Urzúa managed the nation’s second largest budget and gained considerable praise for his insistence on fiscal probity.

Hand-picked by President Obrador for his ability to plot and steer a course between the demands of global markets and the need to provide funding for campaign pledges, Mr Urzúa essentially represents a safe and middle-of-the-road choice: a name that doesn’t spook the market yet hold outs promise to the millions of Mexicans looking to the state for a push to break the cycle of poverty.

So far, Mr Urzúa has not disappointed. The new administration’s first budget provided for a one percent primary budget surplus without any increase in the tax burden. Revenue from the oil sector, including Pemex, accounts for about a fifth of the federal tax intake based on an average price of $55 per barrel.

Minister Urzúa is, however, on shakier ground when trying to convince the markets that his government will be able to cover its social spending plans by ridding the country of corruption and combatting wastage. Good intentions may not always translate into savings. By cancelling the capital city’s new airport, a $13 billion construction project already half-finished and allegedly riddled with ‘unorthodox deals’, President Obrador has blown a $6 billion hole in the country’s public finances as the government must now find a way to compensate bondholders and other creditors. Mr Urzúa has been unable to indicate where he’ll source this money from. He did, however, promise that the settlement of outstanding airport liabilities will not affect the anticipated budget surplus. Market watchers remain, for now, puzzled.

Cover photo: The Dos Bocas oil terminal is to receive a $2.8 billion upgrade.